Regulators have filed yet another huge lawsuit concerning the investment banking fraud that picked investors clean and nearly collapsed our economy. This time, the bad actor is Credit Suisse, which previously was hit with a similar suit by the State of New York.
The New Jersey suit filed against Credit Suisse Securities (USA) LLC and two affiliates alleges that between May 2006 and April 2007 the firms misled investors about the quality of loans packaged into more than $10 billion worth of residential mortgage- backed securities. According to the complaint, Credit Suisse bought and securitized loans from originators who had failed to conduct proper due diligence. Investors, in turn, received prospectuses in which Credit Suisse falsely claimed that the underlying loans met acceptable underwriting standards.
The complaint said that Credit Suisse’s own traders warned it about the risks of some of the loans, but the firm continued to securitize them anyway. Moreover, while Credit Suisse received “tens of millions of dollars” from underwriters in settlements over delinquent loans, it never passed those funds along to investors. Investors are said to have lost more than $1 billion due to their purchases of these mortgage-backed securities.
A Credit Suisse spokesman said the complaint was “without merit” and that it “recycles baseless claims” and uses “inaccurate and exaggerated figures.” The spokesman also said, “We look forward to presenting our defense in court.” Yeah, sure; they look forward to presenting their defense. We assume the spokesman who said this didn’t mean to be comical, but forgive us if we laugh anyway. Credit Suisse Securities will fight for about as long as it takes to hash out a multi-billion dollar settlement.
Virtually every major investment bank did the same kind of stuff Credit Suisse is accused of doing. When the housing market hit the stratosphere, lenders found it profitable to originate mortgages that previously would have been deemed too risky. Mortgage lenders began to overlook even basic requirements for borrower income and down payments, assuming that with real estate prices rising so fast, almost any mortgage would stay above water. Meanwhile, the demand for mortgage-backed securities was so great that issuers began stuffing their underlying portfolios with lousy mortgage loans. Once the subprime mortgage lenders had a way to sell their risky debt, they began to market even more aggressively to high-risk borrowers. Wall Street would sweep up these subprime loans, package them with other loans of varying quality, and sell pieces of them to investors. And the most insidious aspect of this process was that these bundles of risky loans were labeled investment grade (‘A’ rated or higher) by the rating agencies, which in turn were earning big fees from the issuers.
When the housing market began to stall, sales and prices dropped and the number of defaults in residential loans increased. In the end, mortgage-backed securities halted or reduced payments and essentially became unmarketable. But the banks had done something magical. They had turned straw into gold, and had sold the gold before it turned back into straw.
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Hugh Berkson is a Securities Attorney with McCarthy, Lebit, Crystal & Liffman, Co. LPA. Hugh is rated AV® Preeminent™ by Martindale-Hubbell®.
He obtained a business degree in Finance from the University of Texas at Austin in 1989, and is a 1994 graduate of Case Western Reserve University School of Law, where he was a member of the Order of the Barristers and received both the American Jurisprudence Award, (National Mock Trial) in 1993 and the Jonathan M. Ault Mock Trial Prize for 1993-1994.